SanDisk’s founder, President and CEO Dr. Eli Harari, is gung-ho about what lies ahead for the flash memory market. He’s walking around the Consumer Electronic Show at Las Vegas oozing pride. He is quick in showing SanDisk’s mini SD card preloaded with the Rolling Stones album: ‘A Bigger Bang.’ “You can play it on 120 different cell phones in the world” he exclaims.

The Sunnyvale, CA based maker of flash storage cards and products recently introduced a new 6-gigabyte MP3 player: Sansa e270. The new player is expected to cost about $300 and take on Apple’s 4-gigabyte Nano, which is also flash-based and costs $249.

SanDisk entered the MP3 Player space a little over a year. Today it has about 29 percent of the MP3 flash category market, while Apple has about 49 percent, according to NPD Group, an industry research firm. Sanjay Mehrotra, co-founder, COO and EVP of SanDisk firmly believes that the new models will help the company increase market share. “Ultimately, we would like to make this a two horse race, and reach 35-40 percent market share,” says Nelson Chan, EVP Of Consumer Products Business and Corporate Marketing at SanDisk.

Along with MP3 audio player, at the CES, SanDisk also announced a slate of new gadgets including new USB drives. Following this, SanDisk’s (NASDAQ: SNDK) shares, which have traded between $20.25 and $69.39 over the last year, hit a new 52-week high of $74.40. Many analysts either maintained SanDisk’s stock as “Overweight” or an “Outperfomer.” SanDisk was the No.1 performing stock in 2005, with a return of over 250 percent. What’s even more interesting is that SanDisk has ascended to the Number 1 position on the si20 Tech Index, which is a listing of top 20 technology companies founded and managed by Indians in the U.S—it is based on the market capitalization of the company.

SanDisk is the worldwide leader in removable memory cards making it one of the biggest beneficiaries of the soaring demand for cell phones, digital music players, digital cameras, and game consoles. Revenues have surged an average of 70 percent over the past three years and are on track to rise 19 percent this year, to $2.1 billion.

“2006 is going to be challenging and will be better for us,” Harari says, “The markets are growing.” He wants a large pie of the growing market. And he has worked out his strategies to play the cards right.

Storage demand shows no sign of slowing. The digital still camera, USB, Mobile handsets, MP3Players, Gaming Consoles—all these digital devices have an absolutely voracious appetite for flash memory. “These markets are all real, multi-billion dollar in nature and none of them are really mature. My opinion is the best is yet to come for the flash industry as a whole. We are No.1 in the U.S. with 45 percent market share in the flash memory segment. We will continue to be at the top,” affirms Mehrotra.

The market opportunity for flash is tremendous. “Growth will come from markets that we are not envisioning today. It could be archive-able data, GPS or content distribution. It’s going to be exciting,” says Mehrotra.

Sandisk is also keenly watching to tap into a billion new customers in India, China and Eastern Europe. The growing middle-class who have the appetitive for buying memory cards, look for affordable products. “Eventually we have to build specific products to cater to those regions,” says Dr. Randhir Thakur, EVP of Technology and Worldwide Operations. It is here that Sandisk’s India Design Center in Bangalore comes to its advantage. “We are tapping on the large pool of engineering talent who are known for the technical competence. The cost advantage and quality work also are factors we considered while setting up design shop in India,” Thakur notes.

“The reason why flash market has grown fast is that the cost of manufacturing the cards continues to come down at the rate of 40 to 50 percent per megabyte. This offers consumers an interesting proposition—they can buy a memory card of double the capacity at the same price that was one year before!” he says.

SanDisk operates in a market where prices are not just competitive—they’re continually cascading. It isn’t easy to maintain the leadership position in a price-volatile segment. Flash memory business is cyclical. It is largely a commodity market. So if any of SanDisk’s rivals get aggressive, they can torpedo prices and hurt the company’s revenues. Harari & Mehrotra understand this pretty well. SanDisk has proven in the past that it can keep margins high despite the rapidly falling prices. “We have to bring down our costs faster than the prices come down. That has been literally our mantra or religion for the last 15 years,” says Harari.

The firm’s ability to remain profitable while the competition just struggles to stay alive is due to its partnerships and technological advantage. “One of the key differentiators for SanDisk is that we are vertically integrated. We are the only company in the world in this space that designs and manufactures its own flash memory, and designs its own controllers. With our own brand identity we sell it directly to consumers. Having a vertical integration gives us significant advantage over competition, particularly in the area of costs,” says Mehrotra.

As revenues have soared, SanDisk has poured money into research and development. More than 500 engineers of SanDisk’s 1000 strong workforce, each day figure out clever ways to cut costs and introduce innovative products.

The result is a string of innovations: waterproof memory cards, titanium cards, even memory cards that work only if the rightful owner presses a fingerprint on an embedded reader.

One recent innovation that stands out is, the introduction of ‘U3 smart’ USB flash drives. It includes software so that users can access their “personal workspace”—software programs, personal preferences, personal files and data as well as the means for managing them within a highly secure environment—on any personal computer running Windows. For instance, rather than installing Skype on each computer to make phone calls, a consumer merely plugs the SanDisk’s U3 drive into the USB port of a Web-connected PC and clicks on Skype from a program menu in the U3 Launchpad.

While the market grows, the need for innovation is critical. “It’s not just dumb storage any more but smart storage,” says Mehrotra. And it is smart moves that have kept it ahead of the race.

As the inventor of flash memory, not only does SanDisk lead in sales and margins but also the intellectual property licensing guarantees that it gains from the very competition that is snapping at its heels. SanDisk, which has 315 U.S., patents and 160 foreign patents, today boasts of fat IP revenue. Last year, the company registered a 96 percent year-over-year increase in high-margin royalty revenue.

A key strategy that has played well for SanDisk is its partnerships with leading companies—right from design of memory cards to its distribution. While it partners with Toshiba and Samsung for flash memory design, it has manufacturing relationships with Flextronics and Spil. It has some advantages on the cost of manufacturing by owning a fab in Japan in partnership with Toshiba. Memory wafers that are manufactured in Japan are then shipped to sub-contractors in Taiwan and China who convert the wafers into card products. The final products are then distributed to OEMs directly and to retailers through retail distribution centers in the U.S. China, and Europe. SanDisk is also focused on customer support and believes that excellent service is key to remain in the game.

One area where SanDisk does not have partnership is the design of the controller chip. A controller provides an interface between the flash memory and the device in which the card is used. It controls the performance of the flash memory. SanDisk believes that owning the entire R&D of controller logic gives it an edge in the marketplace.

With the technological advantage, partnerships and marketing and sales muscle, SanDisk can pick and choose when to start the price wars that have the potential to bring a lot more pain to rivals.

Shifting Paradigm
Three bright engineers—Eli Harari, Sanjay Mehrotra and Jack Yuan—founded SanDisk in 1988. What’s unique is that even after 17 years the founding team is still intact. In fact, Mehrotra is excited to show the picture of the three founders when they started and a similar picture shot about two years back when the company turned 15.

Early days, SanDisk focused on the OEM market—selling compact flash cards to the likes of Kodak and Canon so that they are bundled in their digital camera boxes. The 2001 recession followed by deep price-cuts in the memory products hurt the company badly. It laid-off 40 percent of its workers; cut salaries as much as 20 percent, and closed plants in Virginia and California in favor of production in Japan and Taiwan. To stay in the game meant SanDisk change its focus from being mostly a supplier to manufacturers and rely on selling its memory to consumers.

About seven years ago, SanDisk made a strategic decision to enter the retail space and sell its products directly to end customers. As it turned out, the exercise was fruitful. “Today our products are sold at more than 140,000 stores worldwide. Our retail revenues represent 80 percent of the total revenues, OEM representing the balance,” says Mehrotra. While on the OEM side SanDisk has partnerships with Nokia, SonyEricsson, and Canon on retail side it boasts of partnerships with some of the biggest names in the industry –Walmart, Best Buy, and Circuit City.

The prospects for SanDisk are huge. If royalty revenue continues to accelerate, sales volume increases, and the market grows then the company has all the markings to continue to be at the top. As Mehrotra puts it: If you are here for long haul, you will reap.